Using a new measure of financial constraints based on firms’ qualitative disclosures, we find that financially constrained firms—firms that use more negative words in their annual reports—pursue more aggressive tax planning strategies as evidenced by: (1) higher current and future unrecognized tax benefits, (2) lower short- and long-run current and future effective tax rates, (3) increase in tax haven usage for their material operations, and (4) higher proposed audit adjustments from the Internal Revenue Service. We exploit the unexpected closures of local banks as exogenous liquidity shocks to show that firms’ external financial constraints affect their tax avoidance strategies. Overall, the linguistic cues in firms’ qualitative disclosures provide incremental information beyond traditional accounting variables or commonly used effective tax rates to reveal and predict tax aggressiveness, both contemporaneously and in the future.

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Using a new measure of financial constraints based on firms’ qualitative disclosures, we find that financially constrained firms—firms that use more negative words in their annual reports—pursue more aggressive tax planning strategies as evidenced by: (1) higher current and future unrecognized tax benefits, (2) lower short- and long-run current and future effective tax rates, (3) increase in tax haven usage for their material operations, and (4) higher proposed audit adjustments from the Internal Revenue Service. We exploit the unexpected closures of local banks as exogenous liquidity shocks to show that firms’ external financial constraints affect their tax avoidance strategies. Overall, the linguistic cues in firms’ qualitative disclosures provide incremental information beyond traditional accounting variables or commonly used effective tax rates to reveal and predict tax aggressiveness, both contemporaneously and in the future.
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Delayed Expected Loss Recognition and the Risk Profile of Bankshttp://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12079Delayed Expected Loss Recognition and the Risk Profile of BanksROBERT M. BUSHMAN, CHRISTOPHER D. WILLIAMS2015-03-13T00:26:12.373927-05:00doi:10.1111/1475-679X.12079John Wiley & Sons, Inc.10.1111/1475-679X.12079http://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12079Original Articlen/an/aAbstract

This paper investigates the extent to which delayed expected loan loss recognition (DELR) is associated with greater vulnerability of banks to three distinct dimensions of risk: (1) stock market liquidity risk; (2) downside tail risk of individual banks; and (3) co-dependence of downside tail risk among banks. We hypothesize that DELR increases vulnerability to downside risk by creating expected loss overhangs that threaten future capital adequacy and by degrading bank transparency which increases financing frictions and opportunities for risk-shifting. We find that DELR is associated with higher correlations between bank-level illiquidity and both aggregate banking sector illiquidity and market returns (i.e., higher liquidity risks) during recessions, suggesting that high DELR banks as group may simultaneously face elevated financing frictions and enhanced opportunities for risk-shifting behavior in crisis periods. With respect to downside risk, we find that during recessions DELR is associated with significantly higher risk of individual banks suffering severe drops in their equity values, where this association is magnified for banks with low capital levels. Consistent with increased systemic risk, we find that DELR is associated with significantly higher co-dependence between downside risk of individual banks and downside risk of the banking sector. We theorize that downside risk vulnerability at the individual bank level can translate into systemic risk by virtue of DELR creating a common source of risk vulnerability across high DELR banks simultaneously, which leads to risk codependence among banks and systemic effects from banks acting as part of a herd

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This paper investigates the extent to which delayed expected loan loss recognition (DELR) is associated with greater vulnerability of banks to three distinct dimensions of risk: (1) stock market liquidity risk; (2) downside tail risk of individual banks; and (3) co-dependence of downside tail risk among banks. We hypothesize that DELR increases vulnerability to downside risk by creating expected loss overhangs that threaten future capital adequacy and by degrading bank transparency which increases financing frictions and opportunities for risk-shifting. We find that DELR is associated with higher correlations between bank-level illiquidity and both aggregate banking sector illiquidity and market returns (i.e., higher liquidity risks) during recessions, suggesting that high DELR banks as group may simultaneously face elevated financing frictions and enhanced opportunities for risk-shifting behavior in crisis periods. With respect to downside risk, we find that during recessions DELR is associated with significantly higher risk of individual banks suffering severe drops in their equity values, where this association is magnified for banks with low capital levels. Consistent with increased systemic risk, we find that DELR is associated with significantly higher co-dependence between downside risk of individual banks and downside risk of the banking sector. We theorize that downside risk vulnerability at the individual bank level can translate into systemic risk by virtue of DELR creating a common source of risk vulnerability across high DELR banks simultaneously, which leads to risk codependence among banks and systemic effects from banks acting as part of a herd
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Earnings Metrics, Information Processing, and Price Efficiency in Laboratory Marketshttp://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12080Earnings Metrics, Information Processing, and Price Efficiency in Laboratory MarketsW. BROOKE ELLIOTT, JESSEN L. HOBSON, BRIAN J. WHITE2015-03-11T00:15:57.717866-05:00doi:10.1111/1475-679X.12080John Wiley & Sons, Inc.10.1111/1475-679X.12080http://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12080Original Articlen/an/aAbstract

An enduring issue in financial reporting is whether and how salient summary measures of firm performance (“earnings metrics”) affect market price efficiency. In laboratory markets, we test the effects of salient earnings metrics, which vary in how they combine persistent and transitory elements, on investor information search, beliefs about value, offers to trade, and market price efficiency. We find that including transitory elements in salient earnings metrics causes traders to search unnecessarily for further information about these elements and to overestimate their effect on fundamental value relative to a rational benchmark. In contrast, separately displaying persistent elements in earnings increases the accuracy of traders’ value estimates. Prices generally reflect traders’ beliefs about value, and prices are most efficient when transitory elements are excluded from earnings metrics entirely. Our study contributes to research on salience effects in financial reporting by showing that including transitory elements in salient earnings metrics causes inefficient information search and biased beliefs about value that can aggregate to affect market prices. We also contribute to research in experimental markets by showing that redundant disclosure is not always beneficial; redundant disclosure of transitory earnings elements, in particular, appears to have negative consequences for investor behavior and market efficiency.

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An enduring issue in financial reporting is whether and how salient summary measures of firm performance (“earnings metrics”) affect market price efficiency. In laboratory markets, we test the effects of salient earnings metrics, which vary in how they combine persistent and transitory elements, on investor information search, beliefs about value, offers to trade, and market price efficiency. We find that including transitory elements in salient earnings metrics causes traders to search unnecessarily for further information about these elements and to overestimate their effect on fundamental value relative to a rational benchmark. In contrast, separately displaying persistent elements in earnings increases the accuracy of traders’ value estimates. Prices generally reflect traders’ beliefs about value, and prices are most efficient when transitory elements are excluded from earnings metrics entirely. Our study contributes to research on salience effects in financial reporting by showing that including transitory elements in salient earnings metrics causes inefficient information search and biased beliefs about value that can aggregate to affect market prices. We also contribute to research in experimental markets by showing that redundant disclosure is not always beneficial; redundant disclosure of transitory earnings elements, in particular, appears to have negative consequences for investor behavior and market efficiency.
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Audit Firm Tenure, Non-Audit Services and Internal Assessments of Audit Qualityhttp://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12078Audit Firm Tenure, Non-Audit Services and Internal Assessments of Audit QualityTIMOTHY B. BELL, MONIKA CAUSHOLLI, W. ROBERT KNECHEL2015-03-10T01:09:13.407037-05:00doi:10.1111/1475-679X.12078John Wiley & Sons, Inc.10.1111/1475-679X.12078http://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12078Original Articlen/an/aAbstract

We use data from internal assessments of audit quality in a Big 4 firm to investigate the impact of audit firm tenure and auditor-provided non-audit services (NAS) on audit quality. We find that first-year audits receive lower assessments of audit quality, quality improves shortly thereafter, and then declines as tenure becomes very long. Partitioning our sample between SEC registrants and private clients, we find that the decline in audit quality in the long tenure range is attributable to audits of private clients. For audits of SEC registrants, the probability of a high quality audit reaches its maximum with very long tenure. We also find that audit fees are discounted for first-year audits but auditor effort is higher than in subsequent years. We find no association, on average, between total non-audit service fees and audit quality in the full sample but observe that total NAS fees are positively associated with quality for SEC registrants and negatively associated with quality for privately-held clients. Our findings are important for regulatory policies related to audit firm tenure and auditor-provided non-audit services.

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We use data from internal assessments of audit quality in a Big 4 firm to investigate the impact of audit firm tenure and auditor-provided non-audit services (NAS) on audit quality. We find that first-year audits receive lower assessments of audit quality, quality improves shortly thereafter, and then declines as tenure becomes very long. Partitioning our sample between SEC registrants and private clients, we find that the decline in audit quality in the long tenure range is attributable to audits of private clients. For audits of SEC registrants, the probability of a high quality audit reaches its maximum with very long tenure. We also find that audit fees are discounted for first-year audits but auditor effort is higher than in subsequent years. We find no association, on average, between total non-audit service fees and audit quality in the full sample but observe that total NAS fees are positively associated with quality for SEC registrants and negatively associated with quality for privately-held clients. Our findings are important for regulatory policies related to audit firm tenure and auditor-provided non-audit services.
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Mobile Communication and Local Information Flow: Evidence from Distracted Driving Laws†http://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12077Mobile Communication and Local Information Flow: Evidence from Distracted Driving Laws†NERISSA C. BROWN, HAN STICE, ROGER M. WHITE2015-02-26T23:53:51.00133-05:00doi:10.1111/1475-679X.12077John Wiley & Sons, Inc.10.1111/1475-679X.12077http://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12077Original Articlen/an/aAbstract

We examine the influence of mobile communication on local information flow and local investor activity using the enforcement of state-wide distracted driving restrictions, which are exogenous events that constrain mobile communication while driving. By restricting mobile communication across a potentially sizable set of local individuals, these restrictions could inhibit local information flow and in turn, the market activity of stocks headquartered in enforcement states. We first document a decline in Google search activity for local stocks when restrictions take effect, suggesting that constraints on mobile communication significantly affect individuals’ information search activity. We further find significant declines in local trading volume when restrictions are enforced. This drop in liquidity is 1) attenuated when laws provide substitutive means of mobile communication and 2) magnified when locals have long car commutes and when their daily commutes overlap with regular exchange hours. Moreover, trading volume suffers the most for local stocks with lower institutional ownership, less analyst coverage, and more intangible information. Additional analyses show lower intraday volume during local commute times when mobile connectivity is constrained. Together, our results suggest that local information and local investors matter in stock markets and that mobile communication is an important mechanism through which these elements operate to affect liquidity and price discovery.

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We examine the influence of mobile communication on local information flow and local investor activity using the enforcement of state-wide distracted driving restrictions, which are exogenous events that constrain mobile communication while driving. By restricting mobile communication across a potentially sizable set of local individuals, these restrictions could inhibit local information flow and in turn, the market activity of stocks headquartered in enforcement states. We first document a decline in Google search activity for local stocks when restrictions take effect, suggesting that constraints on mobile communication significantly affect individuals’ information search activity. We further find significant declines in local trading volume when restrictions are enforced. This drop in liquidity is 1) attenuated when laws provide substitutive means of mobile communication and 2) magnified when locals have long car commutes and when their daily commutes overlap with regular exchange hours. Moreover, trading volume suffers the most for local stocks with lower institutional ownership, less analyst coverage, and more intangible information. Additional analyses show lower intraday volume during local commute times when mobile connectivity is constrained. Together, our results suggest that local information and local investors matter in stock markets and that mobile communication is an important mechanism through which these elements operate to affect liquidity and price discovery.
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The Evolving Disclosure Landscape: How Changes in Technology, the Media, and Capital Markets are Affecting Disclosurehttp://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12075The Evolving Disclosure Landscape: How Changes in Technology, the Media, and Capital Markets are Affecting DisclosureGregory S. Miller, Douglas J. Skinner2015-02-24T02:20:54.176931-05:00doi:10.1111/1475-679X.12075John Wiley & Sons, Inc.10.1111/1475-679X.12075http://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12075Discussionn/an/aAbstract

Recent changes in technology and the media are causing significant changes in how capital markets assimilate and respond to information. We identify important themes in the disclosure literature and use this as a framework to discuss the conference papers that appear in this volume. These papers examine how managers’ disclosure practices are being affected by changes in technology, the media, and capital markets. While this work makes important progress, we discuss how continuing technological change and the emergence of new forms of media offer further opportunities for research on the role of disclosure in capital markets.

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Recent changes in technology and the media are causing significant changes in how capital markets assimilate and respond to information. We identify important themes in the disclosure literature and use this as a framework to discuss the conference papers that appear in this volume. These papers examine how managers’ disclosure practices are being affected by changes in technology, the media, and capital markets. While this work makes important progress, we discuss how continuing technological change and the emergence of new forms of media offer further opportunities for research on the role of disclosure in capital markets.
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Foreign Institutional Ownership and the Global Convergence of Financial Reporting Practiceshttp://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12076Foreign Institutional Ownership and the Global Convergence of Financial Reporting PracticesVIVIAN W. FANG, MARK MAFFETT, BOHUI ZHANG2015-02-20T00:47:54.076956-05:00doi:10.1111/1475-679X.12076John Wiley & Sons, Inc.10.1111/1475-679X.12076http://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12076Original Articlen/an/aAbstract

This paper investigates whether foreign institutional investors affect the global convergence of financial reporting practices. Using several measures of reporting convergence, we show that U.S. institutional ownership is positively associated with subsequent changes in emerging market firms’ accounting comparability to their U.S. industry peers. We identify this association using an instrumental variable approach that exploits exogenous variation in U.S. institutional investment generated by the JGTRRA Act of 2003. Further, we provide evidence of a specific mechanism—the switch to a Big Four audit firm—through which U.S. institutional investors affect reporting convergence. Finally, we show that, for emerging market firms, an increase in comparability to U.S. firms is associated with an improvement in the properties of foreign analysts’ forecasts.

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This paper investigates whether foreign institutional investors affect the global convergence of financial reporting practices. Using several measures of reporting convergence, we show that U.S. institutional ownership is positively associated with subsequent changes in emerging market firms’ accounting comparability to their U.S. industry peers. We identify this association using an instrumental variable approach that exploits exogenous variation in U.S. institutional investment generated by the JGTRRA Act of 2003. Further, we provide evidence of a specific mechanism—the switch to a Big Four audit firm—through which U.S. institutional investors affect reporting convergence. Finally, we show that, for emerging market firms, an increase in comparability to U.S. firms is associated with an improvement in the properties of foreign analysts’ forecasts.
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The Role of Social Media in the Capital Market: Evidence from Consumer Product Recallshttp://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12074The Role of Social Media in the Capital Market: Evidence from Consumer Product RecallsLIAN FEN LEE, AMY P. HUTTON, SUSAN SHU2015-03-27T08:24:06.665745-05:00doi:10.1111/1475-679X.12074John Wiley & Sons, Inc.10.1111/1475-679X.12074http://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12074Original Articlen/an/aABSTRACT

We examine how corporate social media affects the capital market consequences of firms’ disclosure in the context of consumer product recalls. Product recalls constitute a “product crisis” exposing the firm to reputational damage, loss of future sales, and legal liability. During such a crisis it is crucial for the firm to quickly and directly communicate its intended message to a wide network of stakeholders, which, in turn, renders corporate social media a potentially useful channel of disclosure. While we document that corporate social media, on average, attenuates the negative price reaction to recall announcements, the attenuation benefits of corporate social media vary with the level of control the firm has over its social media content. In particular, with the arrival of Facebook and Twitter, firms relinquished complete control over their social media content, and the attenuation benefits of corporate social media, while still significant, lessened. Detailed Twitter analysis confirms that the moderating effect of social media varies with the level of firm involvement and with the amount of control exerted by other users: the negative price reaction to a recall is attenuated by the frequency of tweets by the firm, while exacerbated by the frequency of tweets by other users.

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We examine how corporate social media affects the capital market consequences of firms’ disclosure in the context of consumer product recalls. Product recalls constitute a “product crisis” exposing the firm to reputational damage, loss of future sales, and legal liability. During such a crisis it is crucial for the firm to quickly and directly communicate its intended message to a wide network of stakeholders, which, in turn, renders corporate social media a potentially useful channel of disclosure. While we document that corporate social media, on average, attenuates the negative price reaction to recall announcements, the attenuation benefits of corporate social media vary with the level of control the firm has over its social media content. In particular, with the arrival of Facebook and Twitter, firms relinquished complete control over their social media content, and the attenuation benefits of corporate social media, while still significant, lessened. Detailed Twitter analysis confirms that the moderating effect of social media varies with the level of firm involvement and with the amount of control exerted by other users: the negative price reaction to a recall is attenuated by the frequency of tweets by the firm, while exacerbated by the frequency of tweets by other users.The Structure of Voluntary Disclosure Narratives: Evidence from Tone Dispersionhttp://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12072The Structure of Voluntary Disclosure Narratives: Evidence from Tone DispersionKRISTIAN D. ALLEE, MATTHEW D. DEANGELIS2015-03-23T02:24:03.178808-05:00doi:10.1111/1475-679X.12072John Wiley & Sons, Inc.10.1111/1475-679X.12072http://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12072Original Articlen/an/aABSTRACT

We examine tone dispersion, or the degree to which tone words are spread evenly within a narrative, to evaluate whether narrative structure provides insight into managers’ voluntary disclosures and users’ responses to those disclosures. We find that tone dispersion is associated with current aggregate and disaggregated performance and future performance, managers’ financial reporting decisions, and managers’ incentives and actions to manage perceptions. Furthermore, we find that tone dispersion is associated with analysts’ and investors’ responses to conference call narratives. Our results suggest that tone dispersion both reflects and affects the information that managers convey through their narratives.

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We examine tone dispersion, or the degree to which tone words are spread evenly within a narrative, to evaluate whether narrative structure provides insight into managers’ voluntary disclosures and users’ responses to those disclosures. We find that tone dispersion is associated with current aggregate and disaggregated performance and future performance, managers’ financial reporting decisions, and managers’ incentives and actions to manage perceptions. Furthermore, we find that tone dispersion is associated with analysts’ and investors’ responses to conference call narratives. Our results suggest that tone dispersion both reflects and affects the information that managers convey through their narratives.The Governance Effect of the Media's News Dissemination Role: Evidence from Insider Tradinghttp://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12073The Governance Effect of the Media's News Dissemination Role: Evidence from Insider TradingLILI DAI, JERRY T. PARWADA, BOHUI ZHANG2015-03-12T04:46:52.68987-05:00doi:10.1111/1475-679X.12073John Wiley & Sons, Inc.10.1111/1475-679X.12073http://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12073Original Articlen/an/aABSTRACT

We investigate whether the media plays a role in corporate governance by disseminating news. Using a comprehensive data set of corporate and insider news coverage for the 2001–2012 period, we show that the media reduces insiders’ future trading profits by disseminating news on prior insiders’ trades available from regulatory filings. We find support for three economic mechanisms underlying the disciplining effect of news dissemination: the reduction of information asymmetry, concerns regarding litigation risk, and the impact on insiders’ personal wealth and reputation. Our findings provide new insights into the real effect of news dissemination.

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We investigate whether the media plays a role in corporate governance by disseminating news. Using a comprehensive data set of corporate and insider news coverage for the 2001–2012 period, we show that the media reduces insiders’ future trading profits by disseminating news on prior insiders’ trades available from regulatory filings. We find support for three economic mechanisms underlying the disciplining effect of news dissemination: the reduction of information asymmetry, concerns regarding litigation risk, and the impact on insiders’ personal wealth and reputation. Our findings provide new insights into the real effect of news dissemination.Political Incentives to Suppress Negative Information: Evidence from Chinese Listed Firmshttp://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12071Political Incentives to Suppress Negative Information: Evidence from Chinese Listed FirmsJOSEPH D. PIOTROSKI, T. J. WONG, TIANYU ZHANG2015-03-05T00:54:34.929915-05:00doi:10.1111/1475-679X.12071John Wiley & Sons, Inc.10.1111/1475-679X.12071http://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12071Original Articlen/an/aABSTRACT

This paper tests the proposition that politicians and their affiliated firms (i.e., firms operating in their province) temporarily suppress negative information in response to political incentives. We examine the stock price behavior of Chinese listed firms around two visible political events—meetings of the National Congress of the Chinese Communist Party and promotions of high-level provincial politicians—that are expected to asymmetrically increase the costs of releasing bad news. The costs create an incentive for local politicians and their affiliated firms to temporarily restrict the flow of negative information about the companies. The result will be fewer stock price crashes for the affiliated firms during these event windows, followed by an increase in crashes after the event. Consistent with these predictions, we find that the affiliated firms experience a reduction (an increase) in negative stock return skewness before (after) the event. These effects are strongest in the three-month period directly preceding the event, among firms that are more politically connected, and when the province is dominated by faction politics and cronyism. Additional tests document a significant reduction in published newspaper articles about affected firms in advance of these political events, suggestive of a link between our observed stock price behavior and temporary shifts in the listed firms’ information environment.

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This paper tests the proposition that politicians and their affiliated firms (i.e., firms operating in their province) temporarily suppress negative information in response to political incentives. We examine the stock price behavior of Chinese listed firms around two visible political events—meetings of the National Congress of the Chinese Communist Party and promotions of high-level provincial politicians—that are expected to asymmetrically increase the costs of releasing bad news. The costs create an incentive for local politicians and their affiliated firms to temporarily restrict the flow of negative information about the companies. The result will be fewer stock price crashes for the affiliated firms during these event windows, followed by an increase in crashes after the event. Consistent with these predictions, we find that the affiliated firms experience a reduction (an increase) in negative stock return skewness before (after) the event. These effects are strongest in the three-month period directly preceding the event, among firms that are more politically connected, and when the province is dominated by faction politics and cronyism. Additional tests document a significant reduction in published newspaper articles about affected firms in advance of these political events, suggestive of a link between our observed stock price behavior and temporary shifts in the listed firms’ information environment.Inside the “Black Box” of Sell-Side Financial Analystshttp://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12067Inside the “Black Box” of Sell-Side Financial AnalystsLAWRENCE D. BROWN, ANDREW C. CALL, MICHAEL B. CLEMENT, NATHAN Y. SHARP2015-02-25T06:45:06.107147-05:00doi:10.1111/1475-679X.12067John Wiley & Sons, Inc.10.1111/1475-679X.12067http://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12067Original Article147ABSTRACT

Our objective is to penetrate the “black box” of sell-side financial analysts by providing new insights into the inputs analysts use and the incentives they face. We survey 365 analysts and conduct 18 follow-up interviews covering a wide range of topics, including the inputs to analysts’ earnings forecasts and stock recommendations, the value of their industry knowledge, the determinants of their compensation, the career benefits of Institutional Investor All-Star status, and the factors they consider indicative of high-quality earnings. One important finding is that private communication with management is a more useful input to analysts’ earnings forecasts and stock recommendations than their own primary research, recent earnings performance, and recent 10-K and 10-Q reports. Another notable finding is that issuing earnings forecasts and stock recommendations that are well below the consensus often leads to an increase in analysts’ credibility with their investing clients. We conduct cross-sectional analyses that highlight the impact of analyst and brokerage characteristics on analysts’ inputs and incentives. Our findings are relevant to investors, managers, analysts, and academic researchers.

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Our objective is to penetrate the “black box” of sell-side financial analysts by providing new insights into the inputs analysts use and the incentives they face. We survey 365 analysts and conduct 18 follow-up interviews covering a wide range of topics, including the inputs to analysts’ earnings forecasts and stock recommendations, the value of their industry knowledge, the determinants of their compensation, the career benefits of Institutional Investor All-Star status, and the factors they consider indicative of high-quality earnings. One important finding is that private communication with management is a more useful input to analysts’ earnings forecasts and stock recommendations than their own primary research, recent earnings performance, and recent 10-K and 10-Q reports. Another notable finding is that issuing earnings forecasts and stock recommendations that are well below the consensus often leads to an increase in analysts’ credibility with their investing clients. We conduct cross-sectional analyses that highlight the impact of analyst and brokerage characteristics on analysts’ inputs and incentives. Our findings are relevant to investors, managers, analysts, and academic researchers.Auditor Mindsets and Audits of Complex Estimateshttp://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12066Auditor Mindsets and Audits of Complex EstimatesEMILY E. GRIFFITH, JACQUELINE S. HAMMERSLEY, KATHRYN KADOUS, DONALD YOUNG2014-12-03T01:33:25.412-05:00doi:10.1111/1475-679X.12066John Wiley & Sons, Inc.10.1111/1475-679X.12066http://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12066Original Article4977ABSTRACT

Auditors experience significant problems auditing complex accounting estimates, and this increasingly puts financial reporting quality at risk. Based on analyses of the specific errors that auditors commit, we propose that auditors need to be able to think more broadly and incorporate information from a variety of sources in order to improve audit quality for these important accounts. We experimentally demonstrate that a deliberative mindset intervention improves auditors’ ability to identify unreasonable estimates by improving their ability to identify and incorporate into their analyses contradictory information from diverse parts of the audit and improving their ability to think critically about the evidence. We perform additional analyses to demonstrate that our intervention improves auditor performance by causing them to think differently rather than simply to work harder. We demonstrate that critical thinking can improve the identification of unreasonable estimates and, in doing so, we provide new directions for addressing audit quality issues.

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Auditors experience significant problems auditing complex accounting estimates, and this increasingly puts financial reporting quality at risk. Based on analyses of the specific errors that auditors commit, we propose that auditors need to be able to think more broadly and incorporate information from a variety of sources in order to improve audit quality for these important accounts. We experimentally demonstrate that a deliberative mindset intervention improves auditors’ ability to identify unreasonable estimates by improving their ability to identify and incorporate into their analyses contradictory information from diverse parts of the audit and improving their ability to think critically about the evidence. We perform additional analyses to demonstrate that our intervention improves auditor performance by causing them to think differently rather than simply to work harder. We demonstrate that critical thinking can improve the identification of unreasonable estimates and, in doing so, we provide new directions for addressing audit quality issues.Short Selling Pressure, Stock Price Behavior, and Management Forecast Precision: Evidence from a Natural Experimenthttp://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12068Short Selling Pressure, Stock Price Behavior, and Management Forecast Precision: Evidence from a Natural ExperimentYINGHUA LI, LIANDONG ZHANG2015-01-26T05:11:07.227932-05:00doi:10.1111/1475-679X.12068John Wiley & Sons, Inc.10.1111/1475-679X.12068http://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12068Original Article79117ABSTRACT

Using a natural experiment (Regulation SHO), we show that short selling pressure and consequent stock price behavior have a causal effect on managers’ voluntary disclosure choices. Specifically, we find that managers respond to a positive exogenous shock to short selling pressure and price sensitivity to bad news by reducing the precision of bad news forecasts. This finding on management forecasts appears to be generalizable to other corporate disclosures. In particular, we find that, in response to increased short selling pressure, managers also reduce the readability (or increase the fuzziness) of bad news annual reports. Overall, our results suggest that maintaining the current level of stock prices is an important consideration in managers’ strategic disclosure decisions.

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Using a natural experiment (Regulation SHO), we show that short selling pressure and consequent stock price behavior have a causal effect on managers’ voluntary disclosure choices. Specifically, we find that managers respond to a positive exogenous shock to short selling pressure and price sensitivity to bad news by reducing the precision of bad news forecasts. This finding on management forecasts appears to be generalizable to other corporate disclosures. In particular, we find that, in response to increased short selling pressure, managers also reduce the readability (or increase the fuzziness) of bad news annual reports. Overall, our results suggest that maintaining the current level of stock prices is an important consideration in managers’ strategic disclosure decisions.Analyst Reputation, Communication, and Information Acquisitionhttp://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12069Analyst Reputation, Communication, and Information AcquisitionXIAOJING MENG2015-02-25T06:45:07.16833-05:00doi:10.1111/1475-679X.12069John Wiley & Sons, Inc.10.1111/1475-679X.12069http://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12069Original Article119173ABSTRACT

Earlier studies have shown that reputational concerns tend to reduce agents' opportunistic behavior. However, a recent study by Morris argued that analysts' (experts') reputational concerns may discourage truthful communication when they try to avoid being perceived as being misaligned with investors. In this paper, I examine the effect of reputational concerns on communication in a setting where analysts can choose their precision endogenously. Because both misaligned and aligned analysts want investors to trust their reports in the future, both will aim to build a reputation for being aligned. In equilibrium, aligned analysts will acquire more information than misaligned analysts. As a result, investors may favorably update their beliefs about the analysts' type when the report is proven to be accurate. Therefore, both types of analysts will have reputational incentives to communicate truthfully. The paper also derives conditions under which the analysts' reputational concerns have a nonmonotonic impact on aligned analysts' equilibrium precision choices and investors' welfare.

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Earlier studies have shown that reputational concerns tend to reduce agents' opportunistic behavior. However, a recent study by Morris argued that analysts' (experts') reputational concerns may discourage truthful communication when they try to avoid being perceived as being misaligned with investors. In this paper, I examine the effect of reputational concerns on communication in a setting where analysts can choose their precision endogenously. Because both misaligned and aligned analysts want investors to trust their reports in the future, both will aim to build a reputation for being aligned. In equilibrium, aligned analysts will acquire more information than misaligned analysts. As a result, investors may favorably update their beliefs about the analysts' type when the report is proven to be accurate. Therefore, both types of analysts will have reputational incentives to communicate truthfully. The paper also derives conditions under which the analysts' reputational concerns have a nonmonotonic impact on aligned analysts' equilibrium precision choices and investors' welfare.Unsophisticated Arbitrageurs and Market Efficiency: Overreacting to a History of Underreaction?http://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12070Unsophisticated Arbitrageurs and Market Efficiency: Overreacting to a History of Underreaction?JONATHAN A. MILIAN2015-01-14T15:56:33.432852-05:00doi:10.1111/1475-679X.12070John Wiley & Sons, Inc.10.1111/1475-679X.12070http://onlinelibrary.wiley.com/resolve/doi?DOI=10.1111%2F1475-679X.12070Original Article175220ABSTRACT

Prior research has documented that arbitrage activity significantly reduces or eliminates stock market anomalies. However, if anomalies arise due to unsophisticated investors’ behavioral biases, then these same biases can also apply to unsophisticated arbitrageurs and thereby disrupt the arbitrage process. Consistent with a disruption in the arbitrage process for the post-earnings announcement drift anomaly, I document that the historically positive autocorrelation in firms’ earnings announcement news has become significantly negative for firms with active exchange-traded options. For these easy-to-arbitrage firms, the firms in the highest decile of prior earnings announcement abnormal return (prior earnings surprise), on average, underperform the firms in the lowest decile by 1.59% (1.43%) at their next earnings announcement. Additional analyses are consistent with investors learning about the post-earnings announcement drift anomaly and overcompensating. This study suggests that unsophisticated attempts to profit from a well-known anomaly can significantly reverse a previously documented stock return pattern.

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Prior research has documented that arbitrage activity significantly reduces or eliminates stock market anomalies. However, if anomalies arise due to unsophisticated investors’ behavioral biases, then these same biases can also apply to unsophisticated arbitrageurs and thereby disrupt the arbitrage process. Consistent with a disruption in the arbitrage process for the post-earnings announcement drift anomaly, I document that the historically positive autocorrelation in firms’ earnings announcement news has become significantly negative for firms with active exchange-traded options. For these easy-to-arbitrage firms, the firms in the highest decile of prior earnings announcement abnormal return (prior earnings surprise), on average, underperform the firms in the lowest decile by 1.59% (1.43%) at their next earnings announcement. Additional analyses are consistent with investors learning about the post-earnings announcement drift anomaly and overcompensating. This study suggests that unsophisticated attempts to profit from a well-known anomaly can significantly reverse a previously documented stock return pattern.